The long-term unemployed aren't finding jobs. Small companies aren’t hiring them, or much of anyone else. A new paper from the Federal Reserve Board finds that those two trends are putting a bigger dent in the economy than anyone has suspected.

On its surface, today's news from the Labor Department's monthly jobs report seems good: U.S payrolls added 204,000 jobs in October, exceeding economists' predictions, and the three-month average topped 200,000. The unemployment rate rose to 7.3 percent from 7.2 percent in September, a smaller bump than expected given the federal government shutdown. But dig a bit into the data and disturbing trends emerge.

MIA Job Creators

First, consider what's happening at small companies. These are the businesses that are responsible for an estimated 64% of all net new private-sector jobs, according to the U.S. Small Business Administration, and that have a reputation for being the first to hire coming out of a recession.

They’re not doing it. According to ADP’s National Employment Report, only 50,000 of the 130,000 new jobs it counted in October, or 38%, came from companies with fewer than 500 employees.

The picture gets scarier when you look at newly-opened businesses. These companies should include the fast-growth companies, often called “gazelles,” responsible for a disproportionate share of job creation. In 2005, these companies created 6.2 million jobs, according to Mark Zandi, chief economist of Moody’s Analytics, using data from the U.S. Bureau of Labor Statistics.

In 2009, in the wake of the global financial crisis, and with the U.S. unemployment rate spiking at 10%, new companies still created 5.3 million jobs. You’d think that would be a low point, and that job creation by new companies would have increased since then. Instead, it’s slowed. In 2012 new companies created just 5.2 million jobs. They’re on track to generate about the same number this year.

By comparison, those same companies created 6.8 million jobs in 2002. That’s 1.6 million missing jobs a year, and we've got about 11.3 million unemployed people. That's a big deal.

If new companies were hiring at the rate they were in 2002, we might not even be having this conversation. “Where are the Facebooks of the world that come out of nowhere and suddenly have a thousand employees?” asks Zandi, who says this is one of his big concerns about the U.S. economy. “We just haven’t seen many gazelles.”

Next, the long-term unemployed. More than one-third of the people who are unemployed have been out of work for more than 26 weeks, “well above the levels experienced during any previous post-World War II recession,” according to a new paper by Federal Reserve Board economists Dave Reifschneider, William Wascher and David Wilcox.

Today's jobs report shows that a broader measure of unemployment, a rate that includes discouraged workers and those working part-time, but who want full-time jobs, rose to 13.8% from 13.6% in September.

While unemployment contributes to the soft demand that plagues so many businesses, it’s worse than that. The Fed paper argues that high rates of unemployment, lasting over the long-term, cause so-called structural unemployment to rise as well. The long-term unemployed, the economists write, “may find that their skills, reputations and networks deteriorate,” making them, over time, less suitable to the jobs that do exist. “In particular,” they write, “it seems quite plausible that continued lengthy spells of unemployment could lead to permanent damage in the productivity or employability of those who remain willing to work, and could lead others to throw in the towel and permanently exit the labor force.”

It's not a given that small businesses, if they were hiring at pre-financial crisis levels, would necessarily be hiring people who've been out of work for a long time. But the odds are that they'd be making some progress toward putting those people to work, especially because small companies often can't offer the same amount in salary or benefits as big companies can. So it stands to reason they'd be hiring people who aren't necessarily the first choice for big companies.

The fact that they aren't is a huge problem, and not just on an individual level. The new paper claims that high structural unemployment dents the strength of the overall economy for a long time. We’ve seen this in Europe, they say, but now it seems to be happening in the U.S.: A major financial crisis inflicts long-term damage on the productive capacity of an economy.

That productive capacity is determined by more than just the sheer number of people a country can put to work, which is one reason startups, and their unwillingness to hire, are so important in this narrative. Smaller companies were particularly hard-hit by the Great Recession, as the Fed authors and others have written. To the extent that startups are the most innovative companies, and the most likely to use new strategies and new technologies, the fact that they’ve been unable to recover affects the overall productivity of the economy more than their size would indicate.

The potential gross domestic product of the U.S., the Fed authors write, is about 7 percent below the trajectory it appeared to be on before 2007.

The authors make a strong argument for a more expansionist fiscal policy during recessions. They say that the “ultimate effects of a financial crisis” on employment “could depend critically” on monetary policy that limits the economy’s contraction and restores demand to “normal and sustainable” levels.

Even accounting for the impact of the stimulus package, that’s the opposite of what we’ve had. “It’s hard to see how cutting spending, investment in infrastructure, and education are going to stimulate the economy,” says Mark Thoma, a professor of economics at the University of Oregon. Fiscal austerity on the part of U.S. Congress has nicked GDP growth by 0.7% a year since 2010, according to a study from the fiscally conservative Peter G. Peterson Foundation. That’s not good for businesses that would like to hire, it’s not good for people who need jobs, and it could be doing serious damage to our long-term economic power as well.